Question

Freeflight Airlines is presently operating at 70 percent of capacity. Management of the airline is considering dropping Freeflight's routes between Europe and the United States. If these routes are dropped, the revenue associated with the routes would be lost and the related variable costs saved. In addition, the company's total fixed costs would be reduced by 20 percent. Segmented income statements for a typical month appear as follows (all amounts in millions of dollars): Routes Within U.S. Within Europe Between U.S. and Europe Sales $ 3.27 $ 2.75 $ 2.80 Variable costs 1.38 0.99 1.79 Fixed costs allocated to routes 1.68 1.25 1.35 Operating profit (loss) $ 0.21 $ 0.51 $ (0.34 ) Required: a. Prepare a differential cost schedule. (Enter your answers in millions rounded to 2 decimal places.) b. Should Freeflight drop the routes between Europe and the United States? Yes No

Answer 1

Solution:

Differential Cost Schedule - Free flight Airlines (In millions)
Particulars	Current total	Total if routes between US and Europe dropeed	Cost savings
Variable Costs	$4.16	$2.37	$1.79
Fixed costs	$4.28	$3.42	$0.86
Total Costs	$8.44	$5.79	$2.65

Solution b:

Net financial advantage (disadvantage) on dropping routes between Europe and US = Total saving in cost - Loss of sales

= $2.65 - $2.80 = ($0.15) million

As there is net financial disadvantage, therefore Freeflight should not drop the routes between Europe and the United States